Is It Better to Pay Off Credit-Card Debt or Build an Emergency Fund?

Real Simple answers your questions.

Q: I want to reduce my credit-card balance to lower my interest payments and save some money. But I’m worried that, since I don’t have cash stashed away, I may have to use credit to cover any unexpected expenses. What should I do?

A: If you don’t already have an emergency fund, pay just the minimum on your credit-card bills and start one now, says Nancy Langdon Jones, a certified financial planner in Claremont, California. Ideally, you should keep enough money set aside to cover at least six months’ worth of living expenses should you lose your income. (Make that 12 months’ worth if you have a family.) “Keep the fund in cash so it’s easily accessible,” Langdon Jones says.

For many, that goal is a long way off. In the meantime, you don’t want to be caught short or rack up more debt. So once you have at least $1,000 socked away (enough to cover most sudden emergencies, like a broken water heater or a burst pipe), start dividing any extra cash you have. Put half toward your emergency fund and half toward your debt. Be sure to pay the minimum on all credit cards, then use what’s left to pay down the card with the lowest balance so you can eventually wipe out one money drainer completely, says Lisa Ray, a financial-education specialist at the Consumer Credit Counseling Service, in Greater Atlanta. When your emergency fund reaches the ideal level, focus on becoming debt- and worry-free. ―Dave Baldwin

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